Business-Government Business-Government Trade RelationshipsTrade Relationships

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No country permits unregulated flow of No country permits unregulated flow of goods and services across its bordersgoods and services across its borders

• Governments place restrictions on imports and occasionally on exports

• Governments may provide direct and indirect subsidies to improve the competitive position of some industries

ProtectionismProtectionism• Government action intended to limit foreign

producer’s ability to compete with domestic industry

Rationale for Government Rationale for Government InterventionIntervention

Preserve national identityPreserve national identityImprove position compared to Improve position compared to other countriesother countries

Maintain spheres of influenceMaintain spheres of influencePromote industrializationPromote industrialization

Deal with unfriendly countriesDeal with unfriendly countriesProtect infant industriesProtect infant industries

Maintain essential industriesMaintain essential industriesPrevent unemploymentPrevent unemployment

Non-economic Non-economic RationaleRationale

Economic RationalesEconomic Rationales

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Infant-Industry ArgumentInfant-Industry Argument

• Government should guarantee an emerging industry a large share of the domestic market until it becomes efficient enough to compete against imports

• Initial output costs may make products noncompetitive in world markets

• Over time costs will decrease due to:–greater economies of scale–greater worker efficiency

Problems with argumentProblems with argument

• Hard to identify industries with high probability of success

–even when industries can be identified, not clear that government should provide protection

• Protection may serve as disincentive for managers to adopt innovations needed to become competitive

• Public funds poorly spent• Consumer prices rise

Industrialization ArgumentIndustrialization Argument

Industrialization represents high per capita Industrialization represents high per capita incomeincome

Most developing countries try to emulate Most developing countries try to emulate strategy of developed countriesstrategy of developed countries• Surplus workers can more easily increase Surplus workers can more easily increase

manufacturing output than agricultural outputmanufacturing output than agricultural output• Inflows of foreign investment can promote Inflows of foreign investment can promote

sustainable growthsustainable growth• Prices and sales of agricultural products and Prices and sales of agricultural products and

raw materials fluctuateraw materials fluctuate

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Industrialization Argument, con’tIndustrialization Argument, con’t

• Markets for industrial products grow Markets for industrial products grow faster than markets for agricultural faster than markets for agricultural productsproducts

• Local industry reduces imports and Local industry reduces imports and promotes exportspromotes exports

• Industrial activity helps the nation Industrial activity helps the nation building processbuilding process

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Economic MotivesEconomic Motives

Potential resultsPotential results

+ Global industry createdGlobal industry created

– Firms’ efficiency reducedFirms’ efficiency reduced– Domestic costs increaseDomestic costs increase– Special interests benefitSpecial interests benefit

Pursue Pursue strategic trade strategic trade

policypolicyHelp companies achieve economies of scale and gain a first-mover advantage

Non-economic Rationales for Non-economic Rationales for Government InterventionGovernment Intervention

Maintenance of essential industries Maintenance of essential industries Prevention of shipments to unfriendly Prevention of shipments to unfriendly

countriescountries Maintenance or extension of spheres Maintenance or extension of spheres

of influenceof influence Protecting activities that preserve Protecting activities that preserve

national identitynational identity

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Maintaining Essential IndustriesProtecting domestic industries during peacetime

so that country is not dependent on foreign sources of supply during war

• Popular argument to support import restrictions• Countries must

– determine which industries are essential– consider costs and alternatives– consider political consequences

Dealing with “Unfriendly” countriesPrevention of exports that might be acquired by

potential enemies• May lead to retaliation that prevents securing other

essential goods• Trade controls on nondefense goods also may be

used as a weapon of foreign policy

Maintaining Spheres of InfluenceGovernments may:

• Provide aid and credits to, and encourage imports from, countries that are political allies

• Impose trade restrictions to coerce foreign countries to follow certain political actions

Preserving Cultures and National IdentityCountries have a common sense of identity that

separates them from other nationalities• May limit foreign products and services to

protect their separate identity

Trade Promotion and Trade Promotion and RestrictionRestriction

Trade promotionmethods

Trade restrictionmethods

Subsidies

Export financing

Foreign trade zones

Special government agencies

Tariffs

Quotas

Embargoes

Local content requirements

Administrative delays

Currency controls Antidumping policy

Instruments of Trade Policy:Instruments of Trade Policy:SubsidiesSubsidies

Government payment to a domestic Government payment to a domestic producerproducer• Cash grantsCash grants• Low-interest loansLow-interest loans• Tax breaksTax breaks• Government equity participation in the companyGovernment equity participation in the company

Subsidy revenues are generated from taxesSubsidy revenues are generated from taxes Subsidies encourage over-production, Subsidies encourage over-production,

inefficiency and reduced tradeinefficiency and reduced trade

Potential results

+ Increased competitiveness

– Encourage inefficient firms

– Increased consumer prices

– Overuse of resources

Potential results

+ Increased competitiveness

– Encourage inefficient firms

– Increased consumer prices

– Overuse of resources

SubsidiesSubsidies

• Subsidies—direct government payments to domestic companies to compensate them for losses incurred from selling abroad– other types of government assistance makes it

cheaper or more profitable to sell abroad» potential exporters provided with an array of

services– subsidies to overcome market imperfections are

least controversial– there is little agreement on what a subsidy is– there has been a recent increase in export-credit

assistance

• Aid and loans—given to other countries with the proviso that the funds be spent in the donor country– repayment insurance for exporters

Export FinancingExport Financing

Export-Import Bank of the United StatesExport-Import Bank of the United States Working capital loan guarantees Credit information on nation or firm abroad Export credit insurance against loss Loan guarantees to buyers of U.S. goods and much more…

Export-Import Bank of the United StatesExport-Import Bank of the United States Working capital loan guarantees Credit information on nation or firm abroad Export credit insurance against loss Loan guarantees to buyers of U.S. goods and much more…

Financing such as low-interest loans and loan guaranteesFinancing such as low-interest loans and loan guarantees

Designated geographic Designated geographic region in which merchandise region in which merchandise is allowed to pass through is allowed to pass through with lower customs duties with lower customs duties (taxes) and/or fewer customs (taxes) and/or fewer customs proceduresprocedures

Purpose is to increase employment and trade within the nation

Foreign Trade ZonesForeign Trade Zones

Special Government AgenciesSpecial Government Agencies

Organize trade missions for Organize trade missions for officials and businessesofficials and businesses

Operate export-promotion offices Operate export-promotion offices at locations abroadat locations abroad

Help import products the home Help import products the home nation does not producenation does not produce

Instruments of Trade Policy:Instruments of Trade Policy:TariffsTariffs

Tariffs are the oldest form of trade policy; they Tariffs are the oldest form of trade policy; they fall into two categoriesfall into two categories• Specific tariffsSpecific tariffs are levied as a fixed charge for each unit are levied as a fixed charge for each unit• Ad valoremAd valorem tariffs are levied as a proportion of the value tariffs are levied as a proportion of the value

of the imported goodof the imported good Tariffs are good for government because they Tariffs are good for government because they

generate revenuegenerate revenue Tariffs protect domestic producers but they Tariffs protect domestic producers but they

reduce efficiencyreduce efficiency Tariffs are bad for consumers because they Tariffs are bad for consumers because they

increase the cost of goodsincrease the cost of goods

Tariffs

Potential resultsPotential results

+ Protect domestic firms from competitors+ Generate income for the government

– Reduce competitiveness of home-based firms– Raise consumer prices

Potential resultsPotential results

+ Protect domestic firms from competitors+ Generate income for the government

– Reduce competitiveness of home-based firms– Raise consumer prices

Export tariff

Transit tariff

Import tariff

Import and Export QuotasImport and Export Quotas

Restriction on the amount of a good that can enter or leave a country during a certain

period of time

Import Quotas

1. Protect domestic producers of a good

2. Force outside firms to compete for market access

Export Quotas

1. Retain an adequate domestic supply of a product

2. Restrict world supply of a product to raise its price

EmbargoesEmbargoes

Complete ban on trade (imports and exports)in one or more products with a particular country

Can be difficult for a nation to

enforce

Often used to achieve political

goals

Most restrictive nontariff trade

barrier

Local Content Requirements

Laws that domestic producers must supply a specific amount

of a good or service

Forces international companies toemploy local resources (usually labor)

in production process

Administrative Delays

Regulatory controls or Regulatory controls or bureaucratic rules to slow bureaucratic rules to slow imports into a countryimports into a country

Inconvenient ports for importsInconvenient ports for imports

Product-damaging inspectionsProduct-damaging inspections

Understaffed customs officesUnderstaffed customs offices

Lengthy licensing proceduresLengthy licensing procedures

Currency Controls

Restrictions on theRestrictions on theconvertibility of a nation’s currencyconvertibility of a nation’s currency

Limit the amount of globally accepted currency available to pay for imports

Set an unfavorable exchange rate when paying for imports

Instruments of Trade Policy:Instruments of Trade Policy:Antidumping PoliciesAntidumping Policies

Defined asDefined as• Selling goods in a foreign market below Selling goods in a foreign market below

production costsproduction costs• Selling goods in a foreign market below fair Selling goods in a foreign market below fair

market valuemarket value Result ofResult of

• Unloading excess productionUnloading excess production• Predatory behaviorPredatory behavior

Remedy: seek imposition of tariffsRemedy: seek imposition of tariffs

General Agreement on Tariffs and General Agreement on Tariffs and Trade (GATT)Trade (GATT)

Formed in 1947 by 23 countries to abolish Formed in 1947 by 23 countries to abolish quotas and reduce tariffsquotas and reduce tariffs

Laid the foundation to liberalize world Laid the foundation to liberalize world tradetrade

Required members to open markets Required members to open markets equally to every other memberequally to every other member

However, it could not enforce complianceHowever, it could not enforce compliance The World Trade Organization replaced The World Trade Organization replaced

GATT in 1995GATT in 1995

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World Trade Organization (WTO)World Trade Organization (WTO)

150 current members (>90% of trade)150 current members (>90% of trade) Adopted the principles and trade Adopted the principles and trade

agreements of GATTagreements of GATT Expanded to cover trade inExpanded to cover trade in

• ServicesServices• InvestmentInvestment• Intellectual propertyIntellectual property

Governments bring charges of unfair trade Governments bring charges of unfair trade practices to the WTOpractices to the WTO

WTO rulings are bindingWTO rulings are binding

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Dealing with Governmental Trade Dealing with Governmental Trade InfluencesInfluences

Companies can:Companies can:• Move operations to a lower-cost countryMove operations to a lower-cost country• Concentrate on markets that attract less Concentrate on markets that attract less

international competitioninternational competition• Adopt internal innovationsAdopt internal innovations

Increase efficiencyIncrease efficiency Superior productsSuperior products

• Try to get government protectionTry to get government protection

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